The roots of the current crisis go some way back. After the 9/11 attack in New York, instability and fear pervaded financial markets. In order to steer the US and world economy out of a tight corner there was a reduction in interest rates and loosening of credit, encouraging people to borrow to sustain demand.
Banks took advantage of this and started to push mortgages. Initially the banks were lending on fairly good terms but then competition set in and those with money found they could expand their wealth by borrowing at low interest rates in order to lend to those prepared to pay higher interest rates. One of the main groups prepared to pay these higher rates were poorer sections of the population desperate to get somewhere to live. As long as house prices continued rising, they seemed a safe group to lend to, since there was always a profit to be made by repossessing their homes if they failed to pay up on time. This lending became known as the “subprime mortgage market”.
Although on the surface this appeared to be a form of secure lending, in reality it was risky. Why? Because by 2006 the US economy began slowing down and profits in the US started to fall. As profits declined, firms got rid of workers and poor American’s could no longer keep up with their rising mortgage payments. Borrowing at one end of the chain could not be repaid. Repossessions led to falling house prices, and the “collateral” that supposedly guaranteed (provided security) against the loans, fell in value as well. An enormous 400 billion US dollars in lending was suddenly not repayable.
A whole host of new institutions emerged that began specializing in the same manner as the banks. They would obtain cheap credit in the environment of low interest rates after 2001, use it to make loans, and then ‘securitize’ them. Other financial institutions would also use cheap credit to buy the new securities. Other financial institutions would combine several of these securities to create even more complex forms of debt obligations.
In this baroque and opaque world, fueled by cheap credit, it did not take long before just about all the major financial institutions across the world found themselves holding securities that contained bits of subprime mortgages. What was originally a small sickness within the US economy grew enormously because of the way capitalist credit works. In the end, governments’ were forced to intervene by bailing out vast swathes of the capitalist system as a precursor to saving it:
In spring 2008, Bear Sterns became an early high profile casualty of the crisis on Wall Street. Lehman Brothers followed shortly afterwards and the meltdown in Greece shortly after that. These problems emerged on the back of three decades of sustained low profitability.After World War two profit rates held up at about 15 per cent in the US. By the 1980s it was 10 per cent, and today it is just 5 per cent:
This would appear to indicate that the underlying problems of the global economy are systemic.
What is Marx’s explanation?
Marx’s basic line of argument was simple. Individual capitalists can increase their own competitiveness by increasing the productivity of their workforce. The way to do this is by using a greater quantity of the “means of production”—tools, machinery and so on—for each worker. There is a growth in the ratio of the physical extent of the means of production to the amount of labour power employed, a ratio that Marx called the “technical composition of capital”.
But a growth in the physical extent of the means of production will also be a growth in the investment needed to buy them. So this too will grow faster than the investment in the workforce. To use Marx’s terminology, “constant capital” grows faster than “variable capital”. The growth of this ratio, which he calls the “organic composition of capital”, is a logical corollary of capital accumulation.
Yet the only source of value for the system as a whole is labour. If investment grows more rapidly than the labour force, it must also grow more rapidly than the value created by the workers, which is where profit comes from. In short, capital investment grows more rapidly than the source of profit. As a consequence, there will be a downward pressure on the ratio of profit to investment—the rate of profit.
Each capitalist has to push for greater productivity in order to stay ahead of competitors. But what seems beneficial to the individual capitalist is disastrous for the capitalist class as a whole. Each time productivity rises there is a fall in the average amount of labour in the economy as a whole needed to produce a commodity (what Marx called “socially necessary labour”), and it is this which determines what other people will eventually be prepared to pay for that commodity. So today we can see a continual fall in the price of goods such as computers or DVD players produced in industries where new technologies are causing productivity to rise fastest:
As the rate of return on investment declines in its totality, so it is the weakest companies financially – but not necessarily technologically – that go out of business. In turn, this results in an increase in unemployment. Thus workers are able to purchase fewer goods and services. This inevitably leads to a downward spiral of economic slump and crisis within the system as a whole.
But Marx argued that there were counterveiling factors which mitigated against a total collapse of the system. For example, the diversion of investment from the production of goods and services to the production of arms – a process that is governed by states that are in constant competition with one another – provided a very important role in producing the long boom after the Second World War.
Also, Marx argued that profitability could be restored by crisis itself, through what he called “the annihilation of a great part of the capital”. During a recession some companies fail and are bought up by rivals, and others have to sell off parts of their business or dump their stock on the market to meet their obligations. Those companies that survive can take advantage of this, grabbing assets at a fraction of their real value and putting them to highly profitable use in the recovery that follows. Depressed wages and high unemployment also allow capitalists to squeeze more out of workers. A process of “creative destruction” may lead to a boom following a slump.
But this is not some automatic process that pushes the economy back towards some natural equilibrium. The post-war boom followed only after the prolonged horror of the 1930s slump and the destruction of the Second World War, which also forced states to intervene to reorganise whole national economies.
Could we be heading to a repeat of the Great Depression?
This is a difficult question to answer. There are significant differences between the situation that led to the current crisis and the one in 1929. First, state expenditure has for nearly 70 years been central to the system in a way in which it was not in 1929. In that year federal government expenditures represented only 2.5 per cent of GNP but they currently stand at around 20 per cent. And unlike in 1929, the government in 2008 moved quickly to intervene in the economy. The Hoover administration (March 1929-February 1933) did make a few moves aimed at bolstering the economy, so that state spending rose slightly in 1930, and federal money was used to bail out some banks and rail companies through the Reconstruction Finance Corporation in 1932. But the moves were very limited in scope—and the state could still act in ways that could only have exacerbated the crisis in 1931 and 1932.
The Fed increased interest rates to banks and the government raised taxes. It was not until after the inauguration of the Roosevelt administration in March 1933 that there was a decisive increase in government expenditure. But even then the high point for total federal government spending in 1936 was only just over 9 percent of national output—and in 1937 began to decline. There is a base level of demand in the economy of the today that provides a floor below which the economy will not sink that didn’t exist in the early 1930s.
In this way, the growth in military expenditure since the Great Depression, clearly plays a particularly important role guaranteeing markets to giant corporations thereby mitigating the impact of the crisis. But there is an important second difference that operates in the opposite direction. The major financial and industrial corporations operate on a much greater scale than in the inter-war years and therefore the strain on governments of bailing them out is disproportionately larger. The banking crises of the early 1930s in the US was a crisis of a mass of small and medium banks.Very big banks did not often become insolvent and fail, even in periods of widespread bank failures:
This time we have seen a crisis of many of the biggest banks in most major economies. Within a day of Lehman Brothers going bust, banks such as HBOS in Britain, Fortis in the Benelux countries, Hypo Real Estate in Germany and the Icelandic banks were all in trouble. From there the crisis spread to affect other major banks and the “shadow banking system” of hedge funds, derivatives and so on. In October 2008, The Guardian reported the losses to be a staggering $2.8 trillion.
Despite this, global industrial production now shows clear signs of recovering. This is a sharp divergence from experience in the Great Depression, when the decline in industrial production continued fully for three years. Paradoxically, staving off a catastrophic slump has meant that problems have lingered on.
The recovery is also uneven. British growth remains sluggish at just 0.3 percent, the lowest growth rate since the last quarter of 2013. The US is growing faster, and is also faring better than Germany and Japan, which are more export-oriented and have suffered more from the decline in world trade than from the initial financial meltdown. China was also hit by falling demand for its exports but despite its long boom due to a massive state-sponsored domestic investment programme, the crisis has impacted their too.
The weakness of the global recovery means that people will continue to suffer. In some countries this takes the form of high unemployment and attacks on wages, as in the US, Spain and Ireland. In others, such as Germany and Japan, where unemployment has not risen as fast, companies have sought to hold on to workers but have cut pay rates, reduced hours or shifted workers onto part-time contracts. Britain lies somewhere between the two extremes.
Unemployment and underemployment is likely to persist well into any recovery. An IMF report argues that employment falls further and takes longer to recover during recessions that have a significant financial component. The report indicates that it could take a year and a half from the end of the recession for any substantial improvement, assuming that the recession ends.
Finally, any recovery is and will remain uncertain. State interventions replaced private borrowing and investment with mountains of public debt, and falling tax revenues made it difficult to recover the money spent. Now governments everywhere face a dilemma. Do they cut back to pay off their debts, risking a deeper recession or do they continue spending and risk a run on their currencies?